Economy’s Mixed Blessing: Commodity Prices Fall

The European financial crisis and slowing growth in China, India and the United States have pushed down the prices of a wide array of commodities in recent weeks.

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Workers stock pile bags of rice at a rice warehouse on September 1, 2008 in Jakarta, Indonesia. The global rice price has risen by almost 70% this year, raising concerns in Indonesia, which is one of the world's largest consumers.

If the trend continues, businesses and consumers are likely to reap the benefits through cheaper prices for goods like cotton shirts and copper wiring, coffee beans and gasoline. While that would bring a bit of relief to strained budgets, economists say that the commodities plunge largely reflects the growing weakness in the global economy.

Over the last month, global oil prices have declined by about 12 percent, while corn, copper, lead, cocoa and coffee have all dropped by more than 5 percent. Prices of corn, cocoa, oats, cotton, rubber, coffee, aluminum, silver, zinc and nickel are all more than 20 percent lower than a year ago.

Gasoline prices are falling precipitously, by nearly 20 cents over the last month alone, to a national average of $3.54 a gallon on Wednesday — nearly 45 cents below the high for the year in early April.

“The world economy is in risk of a recession and on that possibility, commodity prices weaken,” said Allen L. Sinai, chief global economist for Decision Economics, a consulting firm. “It is very helpful to consumers because food, gasoline, heating oil and clothing should get cheaper, but if a weaker economy costs the consumer his or her job they don’t have income to buy a shirt.”

Traders say investors have been reducing their stakes in commodities in recent weeks in favor of United States Treasury bills and other safe-haven government debt. According to some estimates, investors took nearly $3 billion from commodities listed on American and European exchanges in May and put the money into Treasury bills and other government debt. That followed a $1 billion withdrawal in April.

More than anything else, economists say, the steep drop in prices reflects deepening worries about a global economic slowdown as Greece prepares for elections next weekend that could lead to its withdrawal from the euro currency union, with financial repercussions across Europe and beyond. A sharp drop in European consumer demand, especially in Italy and Spain, has already reduced global trade in many goods.

Among the commodities that have fallen in price fastest recently is crude oil, despite continuing tensions in the Middle East. OPEC production has been soaring in recent months because of mushrooming crude exports from Iraq, an almost total resumption of exports from Libya since the fall of the Qaddafi dictatorship, and a concerted drive by Saudi Arabia to push up production.

Meanwhile, oil and gasoline supplies in the United States have been rising, bolstered by increased domestic production and a reduction in gasoline consumption by American motorists because of the soft economy and more efficient cars.

Over the week ending last Friday, American demand for gasoline was 3.5 percent lower from a year ago, according to MasterCard SpendingPulse, despite the slumping prices at the pump. The average household consumes 1,200 gallons of gasoline a year, which translates into a $120 annual savings for every dime shaved off the price of gas, according to the Oil Price Information Service. Retailers like Wal-Mart and dollar-store chains could benefit from the drop since they rely on consumers who spend a relatively larger proportion of their disposable income on gasoline.

Meanwhile a glut of natural gas in the United States has produced more than a 10 percent decline in prices over the last month and more than a 50 percent decline over the last year. That should ease summer air-conditioning expenses for consumers and help manufacturers, especially those who make plastics, fertilizers and other products that use natural gas as a feedstock.

But consumers may not see as much benefit when they go shopping. Manufacturers and retailers tend to pass higher costs on to their customers, but don’t always pass along their savings when wholesale prices go down.

“It could be a swing factor for retailers and manufacturers to generate more sales with lower prices,” said Michael P. Niemira, chief economist for the International Council of Shopping Centers. But he added, “The question that is still unknown is how much of the reduction in prices will make its way to consumers. Producers or stores tend to keep prices the same, and take a larger profit.”

Commodity prices are still generally high by historic standards, and well above levels nearly four years ago, when the global financial panic reversed a seven-year commodity bull market.

The decline in commodity prices varies widely depending on the raw material. Cotton prices are down nearly 50 percent over the last year, and have actually been recovering a bit in recent weeks. Copper, a metal that is viewed by many economists as a barometer for economy activity, is down by nearly 20 percent for the year. But gold, normally a commodity that soars with economic uncertainty, is higher but only by about 3 percent over the last year.

“Gold has behaved in line with risky assets, and the heightened uncertainty globally has not rallied the same support gold garnered on previous occasions,” according to a recent Barclay’s commodities research note.

Some analysts say that commodities have sold off so steeply lately that they are bound to turn around soon and resume the bull market that was spurred by growing demand from emerging middle classes in China, India and the rest of the developing world.

In an investment note this week, Goldman Sachs argued that oil and some other commodities are poised for a rebound. “Although the macroeconomic backdrop still remains uncertain, particularly in Europe,” the bank said, “we believe that the price risks are now shifting more to the upside.”

Some analysts note that China is still growing, importing large amounts of oil, and can be expected to be a steady importer of raw materials. Recent Chinese trade data showed surprisingly strong demand for copper.

“The fact that China is moving from an export model to an internal consumption model may be positive for some commodities such as energy and agricultural products,” said Nelson Louie, global head of commodities at Credit Suisse’s asset management division.